Oil and gas projects in Cambodia: A regulatory framework and commentary on prospects for investors
This article was produced by Nabarro LLP, which joined CMS on 1 May 2017.
Summary and implications
Introduction
After struggling for decades with conflict and political instability, Cambodia is now promoting investments in its extractive industries sector, and in the last few years international investors have been starting to look again with interest at the Cambodian oil and gas market, as a number of licenses have been granted for petroleum exploration.
Cambodia, at the moment, imports all its oil and gas, but with energy demand set to surge over the next decade as the economy grows, experts are advocating a renewed focus on the development of the national oil and gas industry with the goal of achieving energy independence.
The country has no proven reserves of oil or natural gas and no reliable estimates are available. However, some areas of the country have shown great potential, as preliminary exploration has led to positive results, and Cambodia is expected to commence exploration of a number of blocks in the near future. Exploration contracts have already been awarded in the most promising of six offshore blocks in the Gulf of Thailand (Block A), and interest in the other blocks is growing.
The Cambodian government has been seeking to promote international investments in the oil and gas resources of the country in order to promote economic growth, provide employment opportunities and generate revenues. The establishment of the Cambodian National Petroleum Authority (CNPA) in 1998 was part of this effort.
Cambodia’s Oil and Gas Blocks
The Cambodian territory is divided into six offshore blocks (A to F) and nineteen onshore blocks (I to XIX). There are also a further four areas in an overlapping claims area (OCA) which is currently contested with Thailand.
All offshore blocks are currently at various stages of exploration, with Block A being the most advanced, while blocks B to F are still in early stages of exploration. Block A is reported to contain an estimated 700 million barrels of oil and 3-5 trillion cubic feet of natural gas. Estimates for the other offshore blocks are not available yet, and it might take another few years until data on those blocks is released.
Contracts have so far been granted for three of Cambodia’s nineteen onshore blocks. These blocks are all at a very early stage of development, and no estimates or data are available yet. However, while the attention of international investors over the past decade has been focused on offshore blocks, new data on the Tonle Sap Basin and improved security in the countryside have opened new exploration opportunities in this untested areas.
The overlapping claims area measures 27,000 square Km, and it has been estimated as containing up to 11 trillion cubic feet of natural gas and an undetermined quantity of oil. The Cambodian government had granted, in late 1997, conditional licenses to five companies to drill in four blocks of the OCA. The right to drill was conditional on an agreement between the two countries.
In this respect, a memorandum of understanding (MoU) was signed between Cambodia and Thailand in 2001, setting up a joint-development regime over certain areas of the OCA and attempting to define a maritime border between others.
Negotiations were disrupted by the change in Thai leadership in 2006, and in 2009 the MoU was suspended by Thailand. However, discussions are still on-going and hopes have been expressed that an agreement may be close, notably in relation to the most delicate issues of revenue sharing and sectors to be covered by the joint development.
Regulatory Framework
The regulatory framework in relation to Cambodia’s natural resources has been substantially expanded in recent years, with the objective of protecting such vast resources by regulating their use.
The framework is expected to continue growing, as the natural resources sector receives financial support from international organizations and other external aid agencies.
In relation to oil and gas, Cambodia is still lacking a comprehensive petroleum law. Technically, the entire industry is still governed by the Petroleum Regulations (1991), whereby the Ministry of Industry, Mines and Energy (MIME) is still the key regulatory authority.
In practice, however, the current investment framework for oil and gas exploration and infrastructure projects in Cambodia also includes a 1998 Royal Decree, which transferred responsibility for the oil and gas sector from MIME to the newly established CNPA, under the direct control of the Prime Minister and under seal of the Council of Ministers.
The mission of the CNPA is to manage, oversee and provide recommendations on policy guidelines, as well as coordinate all upstream and downstream phases and activities of oil and gas exploration, development, import and sale.
The Petroleum Regulations envisage the employment of a contractor for the conduct of oil and gas operations. The legal basis for employment of the contractor and for petroleum operations is a production sharing contract (PSC) agreement, under terms negotiable between the CNPA and the private contractor on a case-by-case basis, depending on the project, using a model contract approved by the CNPA. The current regime for exploration, development and production in oil and gas projects is mostly based on such PSC agreements.
The CNPA is entitled to determine petroleum blocks for explorations, coordinate the bidding procedures for oil and gas activities, negotiate and execute PSC agreements as well as undertake financial audits of such PSC agreements (including inspections of the equipment and review of exploration results). The CNPA is also in charge of preparing commercial regulations on price and of promoting competition in the petroleum sector.
We will now analyse in further detail the model “Petroleum Agreement” approved by the CNPA which, as mentioned above, forms the basis of the key aspects of the regulatory regime for oil and gas operations in Cambodia.
The CNPA Model Petroleum Agreement (PSC Agreement) - Analysis
Broadly speaking, the terms of the Model PSC are generous in favour of the private contractor. Royalty is 12.5% of total production, while the signature bonus is USD 200,000 (probably the lowest in the region, and quite reasonable especially if compared to the USD 15 million signature bonus applied in Myanmar). The private contractor may receive up to 90% of the post-royalty production in order to recover costs. The remaining 10% of production will be split between the contractor and the CNPA on a sliding scale. If production is low, the marginal split of “profit oil” is 58-42 in favour of the contractor. If production levels exceed 50,000 barrels per day, the marginal split will still be 58-42, but in favour of the CNPA.
The above profit oil split mechanism is the most favourable to contractors when compared to terms of PSC models from other countries in the region. Furthermore, the 90% allowance for cost recovery is the most generous in the region.
On the natural gas side, the 65-35 allocation of profit gas in the Model PSC is also favourable to the contractor, and such allocation does not employ a sliding-scale mechanism which would improve the allocation in favour of the CNPA with daily increases of the average production (unlike the allocation of profit oil).
A minimum inflation-adjusted rate of return of 16% for the production of supply of natural gas is also guaranteed to the private contractor, by reducing the amount of the CNPA’s gas allocation in favour of the contractor until the guaranteed minimum rate of return is achieved.
The private contractor’s obligation to supply some portion of its entitlement to serve the domestic market is subject to the contractor’s existing sales commitments, and it is limited to only the contractor’s pro-rata share of the unmet domestic demand. Any oil made available for the domestic market will be sold at prices equivalent to export prices. Interestingly, the domestic supply obligation does not apply to natural gas.
It is also worth noting that the Model PSC does not contain any provisions on participating interest of the CNPA in the business venture. As such, the CNPA will have no option to acquire any participating interest in the business during commercial operation.
The initial exploration period (Stage 1) can be up to four years, which can be extended upon the contractor’s request for additional two years (Stage 2) plus two years (Stage 3).
It appears that the contractor may have the ability to delay development of natural gas and oil by seeking automatic renewals of its production permit until there is an economically viable market for gas. The ambiguity of the Model PSC as to whether this ability to delay is specific to gas or it can also be relied on where the contractor has discovered both oil and gas plays in favour of the contractor, as the provision can easily be interpreted as an option in favour of the contractor. The option remains with the contractor until the 15th year of what should be the production period (i.e. 30 years), at which point the CNPA will have discretion to refuse renewal of the production permit.
The private contractor has a unilateral option to extend the duration of the contract for 5 years after the end of the 30 year production period, if commercial production from the relevant fields remains possible.
Pursuant to the change in law provision of the Model PSC, the risk of change in law is borne by the CNPA, which will be required to amend the contract in favour of the private contractor should any change in law result in a material increase in the financial burden on the contractor.
Title to movable and fixed assets acquired by the contractor during petroleum operations will pass to the CNPA (at no cost) upon notification by the contractor that it no longer requires the assets.
In conclusion, the Model PSC in Cambodia seems particularly attractive for private contractors, as international oil and gas investors will still benefit – to a certain extent and subject to an increasingly hard negotiation with the Cambodian authorities - of a Model PSC which is a product of the period when it was first developed in the late 1990s, when oil prices were low and there was little international interest in Cambodia’s oil sector.
Prospects for the Future
In terms of the downstream market, there are currently no refineries in Cambodia with the necessary capacity to deal with the significant amounts of oil and gas that could be extracted in the next few years. However, steps have been taken to deal with this issue, and the Cambodian Petroleum Company has entered into a few MoUs with private developers to conduct feasibility studies and look into the various refinery options.
A proper development of the oil and gas regulatory framework, as well as of the regulatory capacities of the CNPA, remains the key element required to ensure competitiveness and transparency in the Cambodian oil and gas market, and to properly safeguard the interests of both investors and consumers.
Many international development agencies and financial institutions have been providing technical and financial support to the Cambodian Government to achieve this objective, and a new and complete legal framework for the management of oil and gas resources is now in the making. The new law is yet to be promulgated, but it is envisaged (according to the CNPA) to “enhance Cambodia’s petroleum legislative framework for exploration, development and production operations to international standards”.
Although Cambodia’s oil and gas industry is still young, and the first agreement for commercial extraction is yet to be signed, the sector holds considerable promise for both potential investors and the Cambodian Government. A proper development of the legal and regulatory framework will be crucial to fulfil that promise, to meet the expectations of the international oil and gas industry and, as stated by Prime Minister Hun Sen, to “make sure that oil is a blessing but not a curse”.
